Monday, November 30, 2009

>Indian companies exposure in Dubai(CLSA)

India’s links to Dubai, and the UAE
􀂉 11% of Gulf capital flows between 2002-06 headed to Asia
􀂉 Indian are ~40% of UAE’s population; forming ~10-12% of India’s
inward remittances. 31% of the 5.3m Indians in the Gulf are in UAE.
􀂉 UAE forms ~8% of India’s non-oil exports and 3.0-3.5% of India’s nonoil
􀂉 DP World operates five container terminals in India, accounting for
40% of India’s container traffic.
􀂉 Real Estate: Emaar-MGF and DLF-Limitless are the key alliances for
investments into India. Sobha Developers had plans to build two residential
towers and two hotels in the UAE.
􀂉 Construction: L&T has two joint ventures in the UAE, others with business
interests include Gammon India.
􀂉 Banking: Bank of Baroda has 10 branches in the Gulf (largest), but mostly
small banking exposure, mainly for remittances. Bank lending to UAE funded
projects in India unknown.
􀂉 IT Services: No material exposure. A few deals for Wipro and one for

To read full report :- Indian companies exposure

>Asian banks exposure to Dubai/Middle east (CITI)

Limited exposure for Asian banks – We’ve been gathering feedback from banks
across the region yesterday regarding their exposures to Dubai/Middle East in light
of the debt issues in Dubai. Initial feedback by bank is included in this note. It
appears that most Asian banks have little lending exposure, if any, to Dubai.
Standard Chartered and HSBC would have higher exposure given their operations
in the Middle East. Otherwise, Taiwan financials show up as having some
exposure. We also include a download of syndicated loan exposures specifically to
Dubai World and Nakheel – HSBC and some of the Japanese banks appear more
frequently on the list.

Stan and HSBC – From annual reports, Stan’s corporate loan exposure to the
Middle East was US$14bn at 1H09, equal to 7.6% of group loans and 60% of
equity. HSBC’s loan exposure to UAE was US$15.9bn at 1H09, equal to 1.7% of
group loans and 13% of equity.

Taiwan financials – So far, First, Mega, Sinopac, Chinatrust, Shin Kong, Cathay,
and Taishin have revealed exposures to Dubai/UAE. Exposures among Taiwanese
financials are not entirely surprising as companies have been forced to tap
overseas markets for yield, given the pressures from low interest rates, excess
liquidity, and a tough competitive environment. Thus far, amounts are not that
worrying and represent an earnings hit as opposed to a capital hit. However, the
earnings hit may be more significant for some, especially as their earnings buffer
is not as wide in the first place.

To read full report :- Asian banks

Saturday, November 28, 2009

>Goldman Sachs : gold still relatively fair value

London - Gold and other commodities are justified at current pricing levels and aren't exhibiting bubble-like characteristics when macro variables are taken into account, a senior analyst at Goldman Sachs (GS) told Dow Jones Newswires.

"Interest rates on a nominal basis have been relatively flat while inflation expectations have been rising, putting downward pressure on real interest rates, which in turn has been putting upward pressure on gold prices," said Jeff Currie, head of global commodities research at the U.S. bank. "So the gold market looks relatively fair valued when you put it in the context of real interest rates," he added in a recent interview.

A combination of a faltering dollar and central banks' diversification away from a high level of reserves in the weakening currency have helped to lift gold to record highs, leading to talk of a developing asset bubble.

Thursday the previous metal hit a new all-time high of $1,195.10 a troy ounce in the European spot market, also aided by investors' desire for insurance against the risks of inflationary bubbles in other assets.

Other commodity markets and especially metals have also moved higher, with copper at 2009 highs and platinum and palladium trading at prices last seen in August 2008. Oil is meanwhile holding a steady range between $74 and $77 a barrel, up over 40% since the start of the year.

Industry players have been scratching their heads as to why prices in some commodities have been so strong given rising inventories, not least copper.

Copper stocks in London Metal Exchange warehouses are now at their highest level since April, with the highest proportion in the U.S., where even producers admit demand is extremely poor. In China too, Shanghai warehouse stocks have risen sixfold since the start of the year. Comex stocks are meanwhile at their highest since August 2004, when copper prices were less than half current levels of around $7,000 a metric ton.

Total U.S. inventories of crude oil and petroleum products are meanwhile at their highest since 1994, federal Energy Information Administration data for the week ended Nov. 20 showed.

Currie said that copper inventories relative to ten years ago are still at "extraordinarily low levels," while in oil "you're swimming in it," adding that the forward curves of both commodities reflect these relative inventory levels.

"On a day-to-day basis you can make the argument that the inter-correlation between the dollar and commodities is very high. On a longer term basis, you can make the argument that energy drives the dollar, but the dollar drives metals and agriculture," Currie added.

Goldman Sachs' top energy pick is oil, with copper the favored base metal. Goldman Sachs meanwhile tips corn out of the agricultural commodities and platinum from the precious metals complex.

"Platinum is a gold-plus trade," Currie said. "It's got a floor on it provided by gold, and then you get the industrial story on top of it, with the continuous improvement in demand for autos against ongoing tight supply dynamics in South Africa," he added.

In the backdrop of the commodities revival is still robust demand from the emerging markets, especially the BRIC countries, Currie said. "The financial crisis was really targeted at the U.S., Europe and Japan, and the other parts of the world are rebounding much more quickly," he added.



Credit, non-US stocks gain flow share in 4Q For the week ending 11/4, Lipper FMI data and our preliminary estimates suggest equity fundsremained in the outflow mode, shedding another $3 bn, which was once again led by domestic funds. This compares to $1.5 bn of net outflows ($2.6 outflows in domestic and $1.1 bn in international inflows) reported by ICI for the week prior.

Conversely, bond fund flows remained solid at an estimated $7.4 bn for the current week,
following $10.2 bn (comprising $8.9 bn bn in taxable bonds and +$1.3 bn in munis) for the prior
week reported by ICI.

Money manager barometer: Déjà vu… domestic equities, MMFs outflow; credit inflows.

MMFs outflows accelerated once again, reaching $21 bn for the current week. As we approach the middle innings of 4Q, MMFs lost $79 bn qtd, tracking in-line with 3Q’s total outflows of $235 bn. Similarly to 3Q, credit remains the only game in town with over +$50bn of inflows qtd, on track to beat last quarter’s record. Domestic equity funds outflowed $17 bn, while international funds continued to gain share, picking up +$7bn 4QTD.

Equity performance recovers
Equity fund performance recovered somewhat this week but remains in the negative for the
quarter. Specifically, equity funds are down 1.6% 4QTD. CLMS continues to lead the group with
+0.4% of asset-weighted performance, followed by IVZ and WDR. CNS, LM and PZN all rank at the bottom with -4.1%, -3.5% and -3.1%, respectively.

Trade idea: Buy ART ahead of 3Q earnings We recommend buying ART ahead of 3Q earnings
on 11/13. The stock has underperformed the group recently, now trading at just 12.7X 2010E
P/E vs. the group’s 17.6X average. With further strength in non-US mutual fund flows industry wide in 3Q and 4QTD, we expect ART to deliver $500-$550 mn in positive flow for the quarter,
while the near-term investment performance is catching up. Our 3Q EPS estimate is $0.38.

In addition, BEN (Buy) will be reporting October end AUM, which should show continued strength in credit flows, boding well for the stock on the back of the recent weakness.

To read the full report: ASSET MANAGERS

>Seven Themes for 2010 (MORGAN STANLEY)

Key Debate: Investors are looking at several headwinds for equity markets in 2010 – the DXY trade seems to be a consensus one, a lot of the coming growth acceleration seems to be priced in, inflation is likely to rise and cause tightening, whereas equity valuations appear middling. Amidst these concerns, and since leading indices have more than doubled in less than nine months, we ask – where is alpha going to come from in 2010?

These seven themes are our highest conviction ideas for 2010:
I: Buy SOE Banks: The Central Bank is likely to start raising rates in January 2010. Rising rates favor Indian banks as they run a maturity mismatch on their balance sheets (liabilities have a longer maturity). Thus NIMs will rise; coupled with acceleration in loan growth (which trails IIP growth), this will help earnings. The stocks of SOE banks trade at better valuations than their private sector counterparts and SOE banks will also be helped by a declining fiscal deficit, which will likely cap long bond yields. Our favorite stock is SBI (SBIN IN, Rs2305)

II: Avoid Technology: Tightening by the Central Bank will put upward pressure on the rupee with negative consequences for technology stocks. Tech stocks have done particularly well over the past six months and also suffer on a relative basis in an accelerating domestic growth
environment. Tech stocks correlate negatively with INR.

III: Buy Energy:: Energy, especially Reliance Industries, has delivered its worst relative performance ever on a trailing-six-months basis. The sector correlates positively with crude oil, short-term yields (read: local inflation) and industrial production. Thus it provides a hedge against a spike up in crude oil prices.

IV: Buy Industrials: Acceleration in industrial growth will help close the output gap faster than what is possibly in the price right now. This will help a new private capex cycle to start in 2010 and further boost performance of industrials. Our favorite stock: Larsen & Toubro (LT IN, Rs1648).

V: Shift Bias From Rural to Urban Plays: No doubt rural growth remains very strong, helped by rising food prices and government spending. Yet at the margin, urban growth will close the gap vs. rural growth as industrial activity picks up. Two-wheeler and large cap staple stocks tend to correlate negatively with industrial growth and should be avoided in 2010. In contrast, media and niche mid-cap staples may still perform well.

VI: Buy Mid-caps: The broader market is likely to generate faster earnings growth of around 25% in 2010, trades at better valuations than the narrow market, and accordingly could outperform the narrow market. See our Mid-cap picks on page 10.

VII: Stock Picking Could be in Vogue in 2010, Market to be Driven by Earnings: A high market effect, high sector correlation and middling micro factors such as valuation, fundamental and return dispersion sets us up for a better stock picking environment in 2010. Most of the market returns in 2009 have come from a PE rerating, and as the key driver of returns shifts to earnings in 2010, so will the key driver of stock prices from macro to idiosyncratic stock related factors.

Sector Portfolio Changes: We add 100 bps each to Financials and Energy, funding this by reducing consumer discretionary and technology by similar amounts. Consumer discretionary has been the best performing sector over the past two years; we think most of the growth story is in the price. We are now overweight Energy, Financials and Industrials and underweight Healthcare, Materials, Technology and Utilities.

To read the report: INDIA STRATEGY

>Indian Banks’ Exposure to Dubai (MORGAN STANLEY)

Following the last two days events there have been quite a few questions raised on Indian banks exposure to Dubai – Banks have not disclosed single party exposures. Based on available data, BoB seems to have the biggest exposure to Dubai – this could cause the stock to come under some pressure in the near term. However, we have maintain our OW on BoB given that fundamentally we believe earnings progression will be strong.

Among Indian banks, the following have some presence in Dubai:
1. Bank of Baroda has the biggest presence with eight branches in UAE (of which two are in Dubai). Its total loan book (as of December 31, 2008) in the UAE was US$1.7bn (6.5% of total group loans). However, not all of this is in Dubai. According to an article in Gulf News, it had also participated in a syndicated loan to Dubai World – BoB’s exposure in this syndication is US$200mn, ( uae-growth-1.502185) – around 25% of earnings and 6% of book value. The UAE operations contributed AED162mn to BoB’s profits in CY2008 – around 12% of BoB’s earnings. We are seeking further clarity on the exact exposure from management. We maintain our Overweight call on the stock.

2. SBI has a branch but it is new, given that it got a banking license in Dubai in only September 2009.

3. Bank of India has a representative office in Dubai.

4. ICICI and Axis have a branch each. ICICI has said that its exposure in Dubai is only to Indian entities with businesses in Dubai and, hence, the impact is likely to be negligible, if any.


What's new? — PRIL management outlined a broad scheme for the de-merger of non retail assets. In brief: 1) Big Bazaar and Food Bazaar (~70% of FY09 PRIL parent revenues) will be transferred into a 100% subsidiary of PRIL. 2) The insurance ventures and Future Capital Holdings will be placed in a separate finance vertical. The holding company (for the insurance businesses) will be duly listed. 3) Three support businesses (IT, brand development and learning) have been carved out for a consideration of Rs1.9bn.

Implications — a) Positive for parent balance sheet – cash intensive financial services business can chart growth path without dependence on PRIL for capital infusion; b) Creates possibility for separate listing and infusion of FII into Big Bazaar + Food Bazaar at a later juncture (PRIL is at FII limit at present); and c) PRIL's resources to be conserved to meet growth aspirations.

Buy: Organisational Restructuring — Broad Contours Outlined

Other analyst meeting takeaways — a) Timeline for restructuring of financial services business is 30-45 days; b) Balance sheet restructuring should result in debt to equity levels improving – management targets debt equity levels of ~0.8x (vs. ~1.2x now); c) Target to increase retail space to 25m sq ft by FY14, which includes 10m sq ft capex in PRIL (capital outlay of ~US$350-400m); and d) Guidance on key metrics maintained – (i) management targets reducing inventory to ~Rs1600/sq ft, (ii) revenues of ~Rs9000/sq ft.

Maintain Buy (1M) — We expect the stock to remain buoyant as more clarity on the de-merger emerges. Improvement in retail business (solid SSS growth trends in October) also buttresses our thesis that PRIL is well positioned to capture the rebound in urban consumption.

To read the full report: PANTALOON RETAIL


TRAI notifies MNP porting charges at Rs 19; expect MNP to adversely impact EPS of companies under coverage by 8-39%, target prices by 7-22%; maintain 'Under performer' ratings on Bharti and RCOM, downgrade Idea to 'Sell'

The telecom sector regulator, the Telecommunications Regulatory Authority of India (TRAI) has notified the key charges for the implementation of mobile number portability (MNP). The per port transaction charge has been fixed at Rs 19, the porting charge has been fixed at a ceiling of Rs 19, while dipping charges have been left to mutual discussions between the service provider and MNP service provider. We expect the introduction of MNP to be a negative for the Indian telecom sector and for telecom stocks, even as it would be beneficial for subscribers.

In terms of a company-specific impact, we believe Bharti Airtel and Reliance Communications (RCOM) will be less impacted, given their larger scale and country-wide network. We expect Idea Cellular, given its lower scale as compared with Bharti and RCOM, to be impacted more, especially in the event of it losing high-value and more sticky post-paid subscribers. Overall, we believe MNP will be an additional 'pressure point' for telecom companies and even as it is overall a zero-sum game, it will be margin-dilutive. We estimate a 6-9% decline in ARPUs, a 50-82 bps negative impact on margins and consequent EPS declines to the tune of 8-39% in FY11, with consequent changes in target prices by 7-22%. We remain negative on the sector and maintain 'Under performer' ratings on Bharti Airtel (downgrade target price from Rs 289 to Rs 269) and RCOM (downgrade target price from Rs 167 to Rs 151), while we downgrade Idea Cellular to 'Sell' from 'Under performer' (downgrade target price from Rs 45 to Rs 35).

The porting charges notified by TRAI are significantly lower than the range of Rs 75-200 that has been appearing in media reports over the past few days. This makes it considerably cheaper for subscribers to port their numbers and is likely to be a major factor driving the increasing usage of the MNP facility as and when it commences, given the current dissatisfaction with quality of service (QoS), significant choices of operators and plans for subscribers and the dual SIM card phenomenon in the Indian telecom market.

MNP expected to be a negative for the Indian telecom sector, positive for subscribers; next phase of battle to be fought on the post-paid front We believe the implementation of MNP would be a negative for the Indian telecom sector from an operator point of view, while for subscribers it would be a key positive. Churn rates, already in the region of 4-5% monthly (pre-paid subscribers) are likely to increase even further. Competition levels are already very high and in fact, an era of hyper-competition is being witnessed in the sector. Given the spectrum crunch in the key Metro service areas, on account of which call drops are frequent and QoS poor leading to low customer satisfaction rates, these areas in particular could witness higher churn rates. This is a negative, given the higher ARPUs and revenues that subscribers in these circles provide to operators.

For instance, while the Metro service areas (excluding Chennai) accounted for less than 10% of Bharti Airtel's total mobile subscriber base at the end of September 30, 2009, these circles accounted for over 15.5% of the adjusted gross revenues (AGRs) of the mobile segment in 2QFY10. For the industry, in 1QFY10, blended ARPUs of the metro service areas for the GSM segment, as per TRAI data, stood at Rs 221 per user per month as compared with the overall blended ARPU figure of Rs 185, thus implying a nearly 20% premium. Thus, these are a few examples of the importance of high usage subscribers in the key metro circles, the loss of which could hurt telcos' revenues and profitability significantly.

To read the full report: TELECOM SECTOR


A unique investment proposition: Max India is a unique investment opportunity providing direct exposure to two sunrise industries of insurance and healthcare services. Max New York Life (MNYL), its life insurance subsidiary, is among the leading private sector players, has gained the critical mass and enjoy some of the best operating parameters.

Insurance—the key value contributor: MNYL, a 74:26 JV between Max India and New York Life, is the seventh largest insurance player with a market share of 5.2% and an extremely healthy NBAP margin of 21% (in FY2009). It is differentiated from its peers by its focus on traditional products, relatively low dependence on ULIPs, a highly productive agency network and high persistency rates. In our SOTP valuation of Max India, MNYL contributes Rs263 a share based on the appraisal value method.


Healthcare—aggressive expansion plans: Max Healthcare has presence across the healthcare delivery value chain, addressing the primary, secondary and tertiary care needs of patients. The company plans to increase its capacity to around 1,800 beds by 2011. We value the healthcare business of Max India based on the EV/ EBITDA method and the business contributes Rs20 a share to our SOTP valuation.

Other business—aids cash flow: Max India also has a biaxially oriented polypropylene (BOPP) facility running at full capacity of 29,000TPA. It is in the process of expanding its production capacity for BOPP films to 49,000TPA by the end of the next financial year. The specialty product business contributes Rs12 a share to our SOTP valuation, based on the price-to-sales ratio valuation method.

Valuation—price target of Rs295: Apart from the above mentioned business, the company is looking at investing and building other businesses, including clinical research and general insurance, that would add to its valuations in the coming years. Moreover, the possible hike in the foreign direct investment (FDI) limit for the insurance companies and the expected public offerings by the private insurance players are two likely triggers for the re-rating of the stock. We initiate coverage on Max India with a Buy rating and a price target of Rs295.

To read the full report: MAX INDIA


Quick Comment: We believe the one-time shift in revenue and EPS for Mphasis is behind us. Growth rates have been eroding from high 15% QoQ in Oct. ‘08 to a mere 2% QoQ in Oct. ’09, and the stock has reverted to growing in line with sector peers. We believe that at current levels the stock’s risk/reward looks unfavorable and would recommend that investors switch from Mphasis to HCLTech (Rs339, OW) or MindTree (Rs643, OW).

Oct. ‘09 Results: Reported revenue of Rs11.3bn (+2.4% QoQ, +26.5% YoY) was in line with our estimate. EBIT margins were flat at 21.9%. Excluding Fx gains, revenue grew 1.6% QoQ and EBIT margins declined to 21.1% (-53bps QoQ, +220bps YoY), remaining below our estimates. Net income of Rs2.45bn (+6.9% QoQ, +33.9% YoY) was higher than our and the Street’s
expectations due to higher Fx gains.

Oct. ‘09 Results: Revenue Growth Continues To Decelerate; UW

Key Results Positives: 1) BPO revenue grew above the company average at 3.7% QoQ, with strong improvement in margins to 23.9% (+282bps QoQ, -638bps YoY); 2) Telecom and BFSI grew strongly at 11.7% QoQ and 5% QoQ, respectively; 3) Fixed price
revenue improved to 12% of revenue (+300bps QoQ).

Key Results Negatives: 1) ITO revenue was flat at 2.1bn (19% of revenue) and gross margins in ITO declined to 38.4% (-568bps QoQ, +692bps YoY) after seven consecutive quarters of improvement; 2) Top client, top 5 and top 10 clients declined -12.2% QoQ, -9.6% QoQ, -4% QoQ, respectively; 3) Billing rates in BPO declined for the second consecutive quarter

Valuations: The stock trades at ~16x F2010e EPS, a 20–25% discount to larger vendors, and it remains the most expensive mid-cap stock in our coverage universe.

To read the full report: MPHASIS LIMITED


Business Overview
Incorporated in 1995, MBL Infrastructures Ltd is engaged in the construction and maintenance of roads and highways, industrial infrastructure projects and other civil engineering projects for various government bodies and other clients.

The company has a pan India presence and executed a number of projects in the states of West Bengal, Madhya Pradesh, Uttarakhand, Orissa, Maharashtra, Rajasthan, Assam, Uttar Pradesh, Bihar, Delhi etc.

The company is focused on the following sectors:
1. Highway Construction
2. Road Maintenance
3. Industrial Infrastructure Projects
4. Other Civil Engineering Projects
5. BOT (Build Operate Transfer) Projects

The company is engaged in steel trading and waste management (ferrous scrap and slag recycling) at major steel plants. Moreover, the company has ready mix concrete (“RMC”) and bitumen divisions to ensure adequate and timely supply of high quality of RMC and bitumen mixes.

MBL has completed the execution of BOT project of 114 kms. of Seoni- Balaghat- Rajegaon State Highway under the Public Private Partnership (PPP) arrangements. Company also completed the work of construction of additional length of service road and side drains from 146-156Km including 2-lane flyover on Guwahati Bypass section of NH 37 in the state of Assam.

MBL owns a fleet of equipment, including hot mix plants, sensor pavers, tandom rollers, soil compactors, stone crushers, tippers, loaders, excavators, motorgraders, concrete batching plants, transit mixers, concrete pumps, reversible drum mixers, dozers and cranes.

MBL has bagged five contracts relating to the Common Wealth Games which are mentioned below:
1.Construction of Road under bridge on Auchandi road, connecting to G.T. road to Badli Industrial area (on Delhi – Ambala Line) for Municipal Corporation of Delhi (MCD)

2. Construction of Road under Bridge on existing railway line level crossing on Narela Lampur road at Narela for MCD

3. Street Scaping & beautification of MCD roads around Tyagraj Sports Complex, Siri Fort complex and RK Khanna Tennis Stadium

4. Street Scaping & Beautification of MCD Roads around Dr. Karni Singh Shooting Range and JLN Sports complex

5. Street Scaping & Beautification of Various roads around IGI Stadium under PWD Zone M-1

Competitive Strengths
Integrated business model
The integrated structure enables the company to bid for BOT projects,- from tendering for the project to the collection of tolls, and operate the project on a profitable basis.

Own fleet of construction equipment
The company owns most of the construction equipments like hot mix plants, sensor pavers, tandom rollers, soil compactors, stone crushers, tippers, loaders, excavators, motorgraders, concrete batching plants, transit mixers, concrete pumps, reversible drum mixers, dozers, cranes etc and shuttering and centering plates. This gives the company competitive advantage like lower cost & rapid mobilization.

Pan India presence
The company has a national presence and is currently executing projects in 9 states across India. The capability to simultaneously execute projects at geographically diversified locations, gives the company the ability to wider market access.

Availability of raw material at cheaper cost
Having captive capability ensures availability of the bulk raw material at a cheaper cost & enables the company to control and ensure the quality and timely delivery required for the projects.

Operational BOT project
The operational BOT project is providing steady cash flows to the company. The toll revenue for the fiscal ended March 2009 was Rs 7.80 crore and in August 2009 the monthly revenue stood around Rs 66.72 lakh.

Business Strategy
High potential projects
MBL intends to concentrate on projects where there is high potential growth and competitive advantage. The company intends to be associated with larger, technically more complex projects by leveraging their prior experience in infrastructure projects and equipment base. The company believes that high entry barriers for bidding of large order size projects make this an attractive sector to participate in.

Joint Venture with other infrastructure companies
The company continues to develop and maintain strategic alliance and form project specific joint ventures with regional players whose resources, skills and strategies are complementary to the company's business.

Operate BOT and Annuity projects
The company intends to take up annuity projects or contracts on BOT as they provide higher revenue & operating margins due to the added overall control of the project costs that can be exerted by the contractor. MBL believes that such projects will become increasingly more prevalent in the coming years because of the government's reliance on the public-private partnership (PPP) model.

Mining of minerals
The company may enter into mining of minerals such as iron ore, coal etc in the future.

To read the full report: MBL INFRASTRUCTURE

Wednesday, November 25, 2009

>Which bonds will struggle when fund flows reverse?

The tailwind of mutual fund flows
Net inflows into corporate bond mutual funds have had a big price impact over the past year – bigger, we think, than most investors generally realize. When these flows stabilize, as they obviously will at some point, or possibly reverse, we see a potential softening or reversal in performance for those names that have so far outperformed due to the technical pressure from mutual fund inflows. This concern motivates the bond-level investigation which is the focus of today’s Credit Line.

Bonds exposed to flow reversals
Our bond-level estimates indicate that credit with high “flow betas” are both lower-rated and more cyclical. We use our estimates of flow beta to screen for the bonds in both IG and HY with the highest sensitivity to mutual fund flows. These bonds have substantially outperformed the
market since the bottoms in March, and we expect they would soften disproportionately when mutual fund flows stabilize (or even reverse).

Still long Sterling
Sterling-denominated corporate bonds have recently underperformed on hawkish comments by the BoE and rising long-term rates. We continue to like the Sterling space, given its higher spread valuations and liquidity premia compared to other currencies. We also think carry and spread tightening should compensate for potential increases in rates. We reiterate the buy recommendation on our long BBB sterling basket.

To read the full report: CREDIT STRATEGY

>Home loans – Demand returning, pricing pressures to continue

We had discussions with banks to get an update on the home loan market in India.

Pressure on pricing to continue in the near term. Banks have been extending their discounted home loan rate schemes, basing their decision on marginal cost. While Axis Bank has entered with its own discounted rate scheme for new home loans, PNB and SBI have extended the time period for which their low rate scheme will be applicable. With loan growth in other segments remaining moderate, at best, and demand only now returning, we do not see banks being in a hurry to raise home loan rates until they see definite signs of overall interest rates in the system hardening (likely to happen towards the latter part of FY10 or early FY11).

Demand coming back. For the home loan market, volume seems to be the name of the game at present, with emphasis on expanding book rather than focussing on margins. The combination of lower property prices, attractive interest rates and aggressive promotions does seem to be working, and banks are seeing a progressive pickup in disbursals. With rates likely to remain soft, we expect growth to continue, with 2H FY10 better than 1H.

Asset quality has held firm. Asset quality of the home loan portfolio in general has proved remarkably resilient. Banks estimate NPLs at approximately 1% in their portfolio, a figure that has been steady through the cycle. While there may be some deterioration from these levels in view of the continued sluggishness in the economy, any significant decline may be precluded because of the following factors:

Banks have been conservative with their lending. The target base remains the salaried customer with a regular source of income. Monthly instalments are capped at 50–55% of net monthly salary. Loan-to-value is 75–80% for the new loans, with the average for the total loan portfolio significantly below that.

Banks have been proactive in handling cases of financial stress, with the preferred method being extending the tenor of the loan.

Demand for housing remains high, and the majority of borrowers are owner-users rather than pure investors. Hence, they prefer to pay the monthly instalments even in times of financial stress.

Among banks in our coverage, we believe that Axis Bank, ICICI Bank and SBI should be the main beneficiaries of the revival in home loans, given their relative importance in the overall portfolio (see Figure 1 on page 2). However, the pickup in the case of ICICI Bank may be more muted, in our view, given its higher interest rates on home loans relative to peers.

To read the full report: INDIA BANKS


And the Consensus Is…

Asia ex: Developed world is toast, let's toast the future, Asia and GEMS — Investors are very downbeat on the prospects for the developed markets. Asia ex based on 2010E data will generate ROE equal to the average seen in the last 10 years. For this, investors will pay 10-year average P/BV. Japan and the USA will do the same in terms of ROE, but their P/BV is 30% below mean. Asia’s saving grace is EPS growth forecast outperformance. If it dips, beware. Page 3

Fun With Flows: Resumption of inflows to emerging markets, but not too exciting for Asian funds — New money intake by all dedicated emerging market equity funds last week recouped earlier outflows, totaling US$2.5b as per EPFR. Comparing to $1.5b received by GEM funds, Asian fund inflows were not even half of that, at US$627m only. In terms of flows relative to asset size, they are behind those to Latin America equity funds, but similar to the magnitude of EMEA fund inflows. Page 15

Market Sentiment — Market sentiment has turned a bit cautious with MXASJ hovering around 400 in the last two months. Our sentiment indicator for the region has rolled over from its peak recorded in mid-September to +0.35 standard deviation above mean last week. Market wise, investor appetite has weakened the most in India and Taiwan, whereas sentiment in Singapore, which lagged other markets earlier, has just started picking up recently.



For Q2’10, Cairn India Limited’s (CIL’s) net revenues declined 28.3% yoy to Rs. 2,297.8 mn. This decline was largely due to a 31.7% yoy fall in average price realisations to USD 59.6 per boe. However, the Company’s adjusted net profit was up 4.3% yoy to Rs. 3,058 mn. We are excluding the reversal of the exceptional provision of Rs.1,637.1 mn for a past-profit petroleum payment pertaining to Ravva that was due to the Government of India. Accordingly we have excluded the same from Q1’10 results as well. We have valued the Company using NPV of CIL’s assets suggesting a target price of Rs. 256 implying a discount of 8.9% on the current market price of Rs. 281. Thus, we are changing our rating from Hold to Sell.

TP retained; rating downgraded

No significant change in assets: Our target price has largely remained unchanged from the previous quarter and we believe that the current rally in the stock price is not justified as Cairn has not discovered any new fields and is focused on developing its current assets. We have assumed a peak production of 175,000 bopd from Rajasthan after accounting for other smaller fields that will become operational at a later stage. Also, the Ravva and CB fields are maturing and decrease in production from these fields is a cause for concern.

Mangala field commenses production: Cairn India Ltd. has started commercial production from its Mangala (RJ ON-90/1) field. Mangala production continues to build as per plan with average gross production of 5,991 bopd in Q2; currently producing 10,000 bopd. The field is expected to produce 30,000 bopd in Q3’10, and is likely to reach a peak production of 1,25,000 bopd by June 2010. The Centre has allowed private refiners to qualify as additional buyers of Rajasthan crude, which is a positive for Cairn, with Essar and RIL already lining up as prospective buyers.

To read the full report: CAIRN INDIA


We reiterate our cautious view — Hotel stocks have outperformed Sensex by 22% over the last 3 months; we see more downside potential than upside. Current valuations look to discount strong recovery in FY11E (close to peak EBITDA of FY08) and ignore dismal low occupancy of 53% (down 11%), 21% fall in ARRs for 1HFY10; and risks of competition and supply overhang.

Expensive on PE, EV/EBITDA; not cheap on P/B either —The sector is trading at 24.5x FY11 PE, 16.6x FY11 EV/EBITDA, much above the 5-yr historic median of 22x PE and 15x EV/EBITDA, and at a significant premium to Sensex. On P/B, it’s not cheap either, trading at ~1.8x. India Hotels looks a good relative asset play, but valuations are not compelling yet at 1.9x P/BV.

Some pick-up in Occupancy, but not enough — Occupancies at 57% in Sept’09 (vs.53% in 1H) and expectations of a further 2H pick-up (better business season) are not enough for operating leverage to play out, we believe, as the risk remains this falls short of threshold occupancy levels of ~65% on an annual basis. Furthermore, with a 21% YoY decline in ARRs, and key Mumbai properties still not operational, we see higher risks of earnings disappointment.

Reducing estimates, but TP raised — With a dismal 2Q, and despite building in higher occupancy for 2H, we cut EPS for FY10-11E. Our TPs rise however as we roll 1-yr-frwd PEs to 17-18x (vs. 11-14x) at a premium to Sensex (15x), recognizing op lev potential and preference for asset plays; but this is at a discount to the sector median, given near-term earnings uncertainty.

Likely catalyst — 1) potential capital raising/stake sale, 2) significantly higher insurance claim on settlement for loss of profit (in case of IH and EIH); and 3) sharp YoY growth off a low base in 4QFY10, though partly priced in.

To read the full report: HOTELS SECTOR

Tuesday, November 24, 2009

>Prospects for Economies and Financial Markets in 2010 and Beyond (CITI)

After the most severe global recession for decades, we now expect a sustained but uneven global recovery. Almost all major economies exited recession in Q2 and Q3, and on balance our GDP forecasts continue to rise. The initial bounce in output is likely to be quite solid and even across major economies. Thereafter, we expect recovery to be uneven across regions: strongest in non-Japan Asia, slowest in Europe and Japan. For the US, a fairly solid recovery is likely in 2010-11 — despite lagging credit availability — but the medium-term fiscal outlook poses major policy challenges.

As recovery strengthens, many emerging markets — especially in Asia and Latin America — are likely to hike rates in H1-2010, with the PBOC’s first hike forecast in Q3-2010. Australia and Norway also are likely to tighten further in early 2010. But with subdued inflation and some residual worries among policymakers over recovery’s sustainability, we are postponing our forecast for the first Fed hike to Q4-2010 (Q2-2010 previously), and for the first ECB hike
to Q1-2011 (from Q4-2010). Rising inflation may still lead the UK MPC to hike in Q2 or Q3 2010, while we still expect the BoJ to keep rates on hold in 2010.

This month’s Overview highlights key themes for 2010 and beyond: a solid, but uneven recovery; why Asia’s quick rebound is sustainable; central bank exit strategies; bank retrenchment and credit availability; unsustainable fiscal trends; and longterm trends in the size of major economies. This month’s GEOS also gives detailed forecasts for a wider range of emerging market countries.

Returns from risk assets are unlikely to be as stellar in 2010 as in recent quarters. Nevertheless, Citi strategists believe that with improving growth prospects, strong corporate earnings, and gradual central bank tightening, risk assets will continue to do reasonably well — outperforming government bonds and cash — in the next couple of quarters. We expect interest rate term structures to normalise, with higher yields and flatter curves.

To read the full report: ECONOMIC OUTLOOK

>The Stock Picker Has a Job (MORGAN STANLEY)

Key Debate: One of the themes that emerged from our recent Asia summit was the relative rise in interest in company meetings versus macro. The influence of the market (read: macro) on stock returns has been high over the past 18 months. with stockspecific idiosyncratic factors taking a back seat during this period. With the pace of returns likely to slow in the coming months, the key question is whether it is the right time to abandon macro over stock picking.

Macro effect has been in vogue: The fact that macro is the biggest influence in determining the behavior of stocks is most evident in the way the correlation of returns from individual stocks (market effect) with the market has held high over the past 18 months. Conversely, the average relative volatility of the stocks in our coverage universe had plummeted to a decade low. The
rise in market effect tells us that individual stocks were being influenced more by market performance-related factors than by idiosyncratic or non-market performance–related issues. However, we think it is unlikely that the macro effect will rise further and, to that extent, stock pickers may have a better season next year.

Sector correlations are also running high: Another indicator of the dominance of macro is how various sectors are correlated. Inter-sector correlations (across the 45 pairings of sectors using the 10 MSCI sectors) are around their highs, thus neutralizing sector- and stock-level idiosyncrasies. For investors who expect macro factors to continue to be the force du jour, rotating sectors is the way to make money. However, if macro takes a back seat and stock picking comes back into fashion, correlations will fall. Energy seems to be an exception versus history and could be a good hedge against a fall in these correlations.

Micro factors still not in favor but that is usually the time to inflect:: Indeed, the dispersions in fundamentals, valuations and stock returns all appear to be at middling levels. Usually, extreme dispersion is necessary for a very attractive stock picking environment. The bottom line is that the micro environment is not very appealing for stock picking. That said, as growth accelerates in 2010, these micro indicators are likely to change in favor of stock picking.

Trading beta may not be a panacea: Investors who are wary of the market may seek to buy protection by going down the beta curve. However, they need to bear two points in mind: a) beta is constantly evolving – for example, since Jan-08 energy beta has declined whereas materials beta has gone up. We expect more beta from energy in 2010. b) The components of beta (relative volatility and correlation of returns between the stock and the index – i.e., market effect) are as critical in a “beta strategy” as the beta itself.

To read the full report: INDIA STRATEGY

>RELIANCE INDUSTRIES (bid for Lyondellbasell)

Impact on our views: We believe RIL’s proposed bid for Lyondellbasell would be EPS accretive for RIL shareholders, based on a bid EV value of US$11-US$12bn, assuming an annualized US$2bn EBITDA for Lyondell (current YTD EBITDA run rate of US$1.7bn) and a hurdle IRR rate of 18% for RIL. We maintain our Overweight on Reliance Industries.

Non-organic Growth – Part I - Bid for Lyondellbasell

What's new: RIL has today announced a preliminary non-binding cash offer to acquire a controlling interest in Lyondellbasell upon its emergence from Chapter 11 reorganization. Lyondellbasell filed for Chapter 11 bankruptcy for its US operations in January 2009. Facts on Lyondellbasell: Lyondellbasell is one of the world's largest polymer and petrochemical companies
and is privately-owned by Prochoice GmbH. Lyondell has debt of US$25bn (as of Sept 30, 2009) with a market value of US$12-13bn. The company has year to date operating profit of US$1.68bn for F2009 as against peak and trough EBITDA of US$4.4bn and US$2.0bn respectively.

Facts on RIL: RIL has debt of US$14.6bn with debt:equity of 0.42, cash of US$4bn (as of Sept 30, 2009) and a T-stock valued at current market price of US$8bn giving it sufficient liquidity to fund acquisitions. We estimate RIL generating US$4-US$5bn of free cash flows over the next three years post the next quarter.

Hurdles for the deal: We believe the key hurdles to the deal are: 1) Clearance from the Bankruptcy Committee and bankruptcy judge 3) Private equity owners who have purchased first and second lien debt may want to block the deal 4) Regulatory hurdles for foreign investors
in certain jurisdictions. Chinese companies were prevented from buying Unocal.5) Access Industries (the current owner) and Apollo have bought a lot of the 1st/2nd lien debt, so they will have a say in approving any bid.

To read the full report: RIL


Indian power sector: A growth story from 2003 to 2030
Key structural changes in the Indian power sector since 2003 include lower credit risk for asset owners and higher incentives for private sector participation. We believe these are likely to drive the long-term growth story in the sector. India is projected to have power generation capacity of ~750 GW by 2030, ~5x the current capacity, which is expected to be the third highest globally. This implies annual capacity addition of 20-25 GW against the average annual capacity addition of 5-6 GW in the Eleventh Plan so far.

Opportunities galore; key concerns continue to be an overhang
Opportunities in the power sector across various segments are immense and are likely to remain lucrative over the Eleventh and Twelfth plan periods. However, it is noteworthy that even after the Electricity Act 2003, some key issues persist in the sector. While policy actions of the central government and regulators have been in the right direction, implementation of those regulations, which rests upon state governments, has been found wanting. Further, due to the sector’s concurrent nature (implying it is under the purview of both Centre and states), the central government has been unable to implement reforms.

Introducing peak value: BTG, BoP to create most value till FY12E
We believe attractive opportunities exist across the power value chain. However, given the staggered expansion mode, these need to be analysed with regards to their risk profile and long-term potential. We introduce the concept of peak value creation (PVC) for such analysis. Peak value is created when the business maximises growth and RoCEs over the business cycle. We also note that market capitalisation tends to be a lead indicator. Our analysis highlights that all power equipment and contracting companies will enjoy PVC till FY12. Hence, upsides to valuation exist till FY12E, post which, valuations could de-rate as changing industry dynamics will result in lower value creation.

Top picks
Based on our analysis, we believe equipment and contracting companies and merchant power utilities are likely to reach peak value during FY10-12; regulated utilities will achieve their peak value over the next five years and competitively bid tariff companies are likely to reach peak value after FY12. Our top picks are Tata Power and CESC, amongst utilities. Amongst equipment and contracting companies, we like BHEL, BGR Energy, and KEC International.

To read the full report: POWER SECTOR

>Capital Controls … Back in Vogue, Will India Follow? (CITI)

Flows to EMs results in appreciation, reserve accretion and controls — Growth and interest rate differentials are causing a renewed surge in capital flows to Emerging Markets. This has resulted in currencies appreciating, forex reserves rising (in most cases to pre-crisis levels) and some countries imposing controls on capital flows. How a country deals with capital flows depends on (1) its export dependence and (2) inflationary/sterilization costs associated with dollar inflows.


India: What should one expect? — We believe that similar to FY08, the RBI could once again be caught in the trap of the ‘impossible trinity’. In response to rising flows, we expect (1) the initial goal would be to re-build reserves that were run down during FY09, (2) some INR appreciation to offset inflationary pressures, and (3) although we do not expect that India will impose ‘punitive controls’, one could see a reversal of some measures taken last year. This could include tightening ECB and banking capital norms, reducing interest rates on NRI Deposits, and encouraging capital outflows.

Macro – The good, the bad and the ugly — Starting with the good: upside surprises in industrial production could offset a weak summer crop; likely resulting in GDP growth of 6.2%YoY. The bad: drought relief measures, oil related subsidies/bonds and 3G auctions are potential pressure points on the deficit, but recent clarity on disinvestments could minimize slippage. The ugly: higher food/oil could result in WPI breaching 6% levels by March.

Monetary Policy and Financial Market Forecasts — While loan growth remains anemic, better-than-expected IIP data and rising WPI will likely prompt steps towards normalizing rates by early 2010. We maintain our call of a 125bps rise in rates in 2010, as inflation is primarily supply-driven and excess tightening would have implications for the INR. With the underlying theme of dollar weakness and relatively strong domestic growth, we see the INR trending to Rs44/US$ and Rs41/US$ in Mar10 and Mar11 respectively. However, similar to other EM assets, there would be a tussle between ‘risk on’ and ‘risk off’.

To read the full report: INDIA MACROSCOPE

Monday, November 23, 2009

>China’s Investment Boom: the Great Leap into the Unknown

In this report we describe the background to and the extent of the capital spending bubble in China and identify factors that will precipitate its deflation. We focus on Chinese capital spending firstly because it is the single most important driver of current Chinese and global growth expectations and, secondly and more importantly, investment-driven growth cycles tend to overshoot and end in a destructive way.

We conclude that the capital spending boom in China will not be sustained at current rates and that the chances of a hard landing are increasing. Given China’s importance to the thesis that emerging markets will lead the world economy out of its slump, we believe the coming slowdown in China has the potential to be a similar watershed event for world markets as the reversal of the US subprime and housing boom. The ramifications will be far-reaching across most asset classes, and will present major opportunities to exploit. There are three key reasons why we take this view:

China’s expansion cycle surpassing historical precedents: It is widely believed that China is still in an early development phase and therefore in a position to expand capital spending for years to come. However, both in its duration and intensity, China’s capital spending boom is now outstripping previous great transformation periods.

Policy actions not sustainable into 2010. This year’s burst in economic activity has been inflated by a front-loaded stimulus package and a surge in credit growth. Given their exceptional and forced nature we believe growth rates in government-driven lending and capital spending will collapse in 2010.

Overcapacity and falling marginal returns on investment: Analysis of industrial capacity, urbanisation and infrastructure development shows that China’s industrialisation and structural modernisation are largely complete. Combine this with falling returns on investment, and it becomes obvious that China’s long-term investment needs are grossly overestimated.

China’s Capital Spending in Uncharted Waters
In our view investors have underestimated both the maturity of the Chinese growth cycle as well as the degree to which recent growth is a direct extension of the global credit bubble. This bubble had two major manifestations. The first, which started unravelling globally in early 2007, was evident in excesses in real estate, consumption and private equity. The second manifestation, which has yet to fully deflate, was a boom in capital expenditure, led primarily by

The Chinese economic “miracle”, referring to the past 30 years of growth at an average real rate of 10% can be broadly split into three periods. In the 1980s, the first stage was unleashed by modest reforms of Deng Xiapoing such as liberalisation of prices in the agricultural sector. After a brief pause coinciding with the Tiananmen events, the second stage concentrated on rationalization of labour that saw a proliferation of light industries at the expense of agriculture and State Owned Enterprises (SOEs). The third stage has been focused on expansion of heavy industries and infrastructure. What all three stages had in common was a central role of investments as a driver of economic growth. Indeed, China has emulated the path of other countries that have rapidly developed in the second half of the 20th century driven by high investment to GDP ratios (we focus on Gross Fixed Capital Formation, GFCF, which is a broad definition of investment). However, both in its duration and intensity, China’s capital spending boom is now outstripping previous great transformation periods (e.g. postwar Germany and Japan or South Korea in the 1980-90s, chart 1).

Credit Growth at Critical Point
Similarly to the housing and consumption bubbles in the Western economies, credit has played a pivotal role in the investment bubble in China. Since the beginning of the decade up to H1 2009, domestic credit in China has expanded 50% more than GDP (chart 5). China is an outlier compared to the other “BRIC” countries in terms of the credit to GDP ratio (140% as of H1 2009) and is already beyond the levels that historically have led to sharp and brief credit crises in the past (chart 6). If loans continue to grow at the current 35% rate, credit to GDP ratio will be close to 200% in China already in 2010, even with GDP expanding at 10%. This is a level similar to the pre-crisis Japan in 1991 and USA in 2008. All this points to that credit in China is not going to be able to grow for much longer without risking a major crisis.

Permanent Reduction in Capital Spending Activity
As the dust settles, we believe China will enter a phase of permanently reduced capital spending activity, whereby consumption will become the upper boundary of growth. The deteriorating ICOR ratio discussed above clearly demonstrates that China is running out of easy ways to boost growth through investment. Below we have reviewed the three major destinations for capital spending in the recent years: manufacturing, real estate and infrastructure. Our analysis demonstrates that China is already a country with ample manufacturing capacity and an increasingly welldeveloped infrastructure, which does not support the notion of significant pent-up investment needs in China. Consequently further expansion will not have nearly as much impact on growth as in the past.

Consumption Growth Cannot “Replace” the Investment Boom
In the best-case scenario emphasised by China bulls, private consumption will smoothly overtake investment as the growth engine so that there is no pullback in the overall growth rates. Here, we will start with a very simple fact that private consumption in China accounts for about a third of GDP. As we discussed previously, after a bumper year for credit and investment activity, it is going to be hard for investments to continue growing at 30% in 2010. Even if we assume optimistic investment growth rates of 10% for 2010 and 0% for 2011, leaving the trade balance where it is now, private consumption would have to grow at an average real rate of 20-30% for the next two years for overall GDP real growth levels to hit the magic 10%.

Chinese Investment Slowdown a Global Market Event
Considering China’s role as a trailblazer and locomotive for the current global recovery efforts, any signs of a Chinese slowdown would have significant global consequences. Not only would it challenge the notion of emerging markets leading the world economy out of its slump, but it would also raise doubts over the sustainability and effectiveness of the various stimulus efforts under way in other countries.

Given the stakes involved, we can expect the Chinese as well as other governments to introduce further stimulus measures as signs of weakness appear. This may prolong the top, but as discussed in the report, China has reached an impasse in terms of its dependency on capital spending to generate growth. Although the transition from a high growth model dependent on investments to a slower growth model driven by consumption demand can be pushed slightly into the future (at the risk of causing a credit bust), it cannot be avoided.

To read the full report: INVESTMENT BOOM